Competitive markets demand and supply

Suresh Madhavan AKAH

Competitive markets: Demand

and Supply


The term market means any kind of

arrangement where buyers and sellers of goods, services or resources are linked together to carry out an exchange.

Market


Markets

Product market(goods and services bought and

sold)

Factor market(factors of production bought and

sold)

Types of markets


The competitive market is the market for a

good with large number of buyers and sellers, where the single seller has very little or no market power.

Competitive markets


Demand is concerned with the behaviour of

buyers.

Demand


The demand is the quantity of a good or

service that consumers are willing and able to buy at a given price during a specific time period ceteris paribus.

Meaning of demand


Willing ……want to buy. Able….Afford to buy.

Willingness and ability


Demand schedule is a table listing the

quantity demanded at various prices

Demand Schedule


Price of chocolate bars $ Quantity of chocolate bars demanded per week

5 2

4 4

3 6

2 8

1 10

Demand Schedule


Price on vertical axis. Quantity on horizontal axis. It shows the relationship between price and

quantity demanded.

Drawing a demand curve


Market demand is the sum of all individual

demands for a good. The market demand is also the sum of

consumer’s marginal benefits.

Market demand



Drawing a market

demand


The law of demand states that as the price of

a good increases, the quantity demanded of the good decreases, ceteris paribus.

As the price of a good decreases, the quantity demanded of the good increases, ceteris paribus.

It shows the negative relationship between the two variables of price and quantity demanded.

The law of demand


Why the demand curve slopes downward?

Income effect Substitution effect

Law of diminishing

marginal utility


Real income= the actual buying power of a

consumer. As the price of a good decreases, the quantity

demanded increases because consumers now have more real income to spend.

The income effect


As the price of a good decreases, consumers

switch from other substitute goods to this good because of its low price. Thus the quatity demanded increases.

The substitution effect


As we consume additional units of something,

the satisfaction(utility) we derive for each additional unit(marginal unit) diminishes.

The law of diminishing marginal utility


A consumer would only buy a second or third

unit of good when the price is lower.(reflects the diminishing utility)

At lower prices, more are demanded.

Why do they buy more when the price falls?


These are variables other than price that can

influence demand. Variables assumed to be unchanging(ceteris

paribus) These factors lead to a shift in demand curve

either leftward or rightward.(also known as demand shifters)

Non-price determinants of

demand


Income(the effect is different for normal goods

and inferior goods) Preferences and tastes. Price of substitute goods. Price of complementary goods. Demographic changes. Future Expectations. Season.

Demand shifters


Normal goods are any goods for which

demand increases when income increases, and falls when income decreases but price remains constant.

Demand has a direct relationship with income.

Normal goods


An inferior good is a good that decreases in

demand when consumer income rises. Demand has an inverse relationship with

income.

Inferior good


A product or service that satisfies the need of

a consumer that another product or service fulfills.

Substitute good


A good or service that is used in conjunction

with another good or service.

Complementary goods


Whenever the price of a good changes, ceteris

paribus, it leads to a movement along the demand curve.

It is also known as an increase or decrease in quantity demanded.

Movement along the demand curve


An change in a non-price determinant of

demand results in a shift in the entire demand curve.

It is also known as change in demand.

Shift of the demand curve


The Veblen goods: Thorsten Veblen’s

contribution. Some times the quantity demanded will rise

as price rise. This arise from conspicuous consumption. (Expenditure on or consumption of luxuries on

a lavish scale in an attempt to enhance one's prestige).

Exceptions to the law of demand


The demand for a

Veblen good. As the price of a Veblen

good rises, people with high incomes begin to buy more of the product because it has a “snob value”. (the value of owning something that is very expensive or rare, for the supposed status one gains by owning it)


Other than the veblen goods, find the

examples for other exceptions for the law of demand.

Explore and Explain


Using diagrams, show the impact of changes on the

demand curve for product A The number of consumers in the market for a product

increases. Consumer income increases and product A is an inferior

good. Consumer income decrease and product A is a normal

good. A new report claims that use of product A has harmful

effects on health. The price of substitute good B falls. The price of complementary good B increases.

Test yourself


Supply is the quantity of a good or service that

producers are willing and able to offer for sale/supply at a given price during a specific time period, ceteris paribus.

Supply


The law of supply states that as price

increases, more of a good is offered for sale by firms. As price decreases, less of a good is offered for sale.

The law of supply


Draw a supply curve


Market supply is the sum of all individual

firm’s supplies for a good.

Market supply


Higher price is an incentive for the producers

to produce more. Lower price means lower profitability. This leads to a positive relationship between

price and quantity supplied of a good/service.

Why slopes upward?


A vertical supply curve means,

even as price increases, the quantity supplied cannot increase; it remains constant.

This may be due to: Fixed quantity of the good

supplied because there is no time to produce more of it. Ex; Theatre tickets in a theatre.

There is no possibility of ever producing more of it. Ex; Original painting and sculptures of famous artists.

The vertical supply curve


Any change in price leads to change in

quantity supplied, shown as the movement along the supply curve.

Any change in non-price determinants of supply leads to a change in supply, represented by a shift of supply curve.

Movement along the supply curve & shift of the supply curve


Change in quantity supplied and change

in supply


Costs of factors of production. Technology. Price of related goods: competitive supply. Price of related goods: joint supply. Producer expectations. Taxes(indirect or taxes on profits). Subsidies. The number of firms. ‘Shock’s or unpredictable events.

The non-price determinants of

supply(Explore and Explain)


Using diagrams, show the impact of each of the following on the

supply curve of product A. (a) The number of firms in the industry producing product A

decreases. (b) The price of oil, a key input in the production of product A,

increases. (c) Firms expect that the price of product A will fall in the future. (d) The government grants a subsidy on each unit of A produced. (e) The price of product B falls, and B is in competitive supply with A. (f) The price of product B increases, and B is in joint supply with A. (g) A new technology is adopted by firms in the industry producing A.

Test your understanding


Market Equilibrium

Equilibrium: a state in which opposing forces or influences are balanced.

When the market is in equilibrium, quantity demanded equals quantity supplied and there is no tendency for the price to change.

WHAT HAPPENS IN THE MARKET FOR MP3 PLAYERS IF

THERE IS….

AT THE ORIGINAL PRICE LEVEL THERE IS…..

A NEW TECHNOLOGICAL DEVELOPMENT LEADING TO

LOWER PRODUCTION COSTS?

EXCESS DEMAND

A

EXCESS SUPPLY

B

AT THE ORIGINAL PRICE LEVEL THERE IS…..

A RISE IN WAGE RATES IN CHINA (WHERE MOST PRODUCTS ARE

MADE)?

EXCESS DEMAND

A

EXCESS SUPPLY

B


If a quantity demanded of a good is a smaller

than quantity supplied, the difference between the two is called a surplus (excess supply).

If quantity demanded of a good is larger than quantity supplied, the difference is shortage (excess demand).

Surplus and Shortage(excess supply

and excess demand)


Market equilibrium


Market equilibrium

equilibrium

where the supply and demand curves meet

equilibrium price: P where QD = QS

equilibrium quantity:Q where QD = QS

0

20

40

60

80

100

0 100 200 300 400 500 600 700 800

Quantity (tonnes: 000s)

E

D

C

B

Aa

b

c

d

e

Supply

Demand

Pric

e (p

ence

per

kg)

SHORTAGE

(300 000)

Shortage

0

20

40

60

80

100

0 100 200 300 400 500 600 700 800

Quantity (tonnes: 000s)

E

C

B

Aa

b

c

e

Supply

Demand

Pric

e (p

ence

per

kg)

D dSURPLUS

(330 000)

Surplus

The Market

Price (£)

Quantity Bought and Sold (000s)

S

D

£5

600

D1300

Surplus

£3

450

A shift in the demand curve to the left will reduce the demand to 300 from 600 at a price of £5. Suppliers do not have the information or time to adjust supply immediately and still offer 600 for sale at £5. This results in a market surplus (S > D)

In an attempt to get rid of surplus stock, producers will accept lower prices. Lower prices in turn attract some consumers to buy. The process continues until the surplus disappears and equilibrium is once again reached.

The MarketPrice (£)

Quantity Bought and Sold (000s)

S

D

£5

600

S1

100

Shortage

£8

350

A shift in the supply curve to the left would lead to less products being available for sale at every price. Suppliers would only be able to offer 100 units for sale at a price of £5 but consumers still desire to purchase 600. This creates a market shortage. (S < D)

The shortage in the market would drive up prices as some consumers are prepared to pay more. The price will continue to rise until the shortage has been competed away and a new equilibrium position has been reached.


Change in demand

and new equilibrium


Change in supply and

new equilibrium


Assuming a competitive market, use demand and supply

diagrams to show in each of the following cases how the change in demand or supply for product A creates a disequilibrium consisting of excess demand or excess supply, and how the change in price eliminates the disequilibrium.

(a) Consumer income increases (A is a normal good). (b) Consumer income falls (A is an inferior good). (c) There is an increase in labour costs. (d) The price of substitute good B falls. (e) The number of fi rms in the industry producing product A

increases. (f) A successful advertising campaign emphasises the health

benefi ts of product A.

Test your understanding


Economics Course companion Economics for IB Diploma Economics Pearson Baccalaureate Ib economics blogspot.com Investopedia.com ibguides.com

References


Thank you

Education

Competitive markets demand and supply